private equity jay jodway, morgan truscott march 20, 2006
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PRIVATE EQUITY
Jay Jodway, Morgan Truscott
March 20, 2006
What is Private Equity?
• Large pool of capital
• Buy down-but-not-out companies
• Fix those companies– Lower their cost of capital– Improve operations
Who’s investing?
• Wealthy Individuals
• Pension Funds– Provide 40% of the $600-800b in PE funds– Corporate pensions with big stake in PE:
• Eastman Kodak - 20%• Delta - 13%• GM - 10%
Big Business
• Industry controls $600b-800b in capital
• The big three employ > 907,000 people– Carlyle– KKR– Blackstone Group
• Annual returns for PE > 20%– S&P 500 averages about 5%
PE Big Acquisitions
• Dunkin’ Brands Inc.• Neiman Marcus• MGM• Toy ‘R’ Us• AMC Entertainment• Linen ‘N Things• Fairmont Hotels
• MEMC Electronic Materials
• Seagate Technology• TRW Automotive• Burger King
Barbarians at the Gate
1. RJR Nabisco (1989) - $31b2. Hertz (2005) - $15b3. TDC (2005) - $12b4. Sungard Data Systems (2005) -
$11.4b5. Browning-Ferris Industries (1999) - $9.6b6. Qwestdex (2003) - $7.1b7. Toys ‘R’ Us (2005) - $6.6b8. Neiman Marcus Group (2005) - $5.1b9. Metro-Goldwyn-Mayer (2005) - $4.9b
Investment Bank Payday
• How I-bankers benefit– Collect fees for:
• Brokering or advising on tender offers• Underwriting Bonds• Arranging bank debt to pay acquisition costs• Selling off assets to pay back debt• Taking target firms public again
– Fees collected in 2005 > $11.8b– $35b raised from Reverse LBOs
• Blackstone paid out > $358m to I-banks in 2005
IPO Outlook
• Reverse LBO– Bought out company taken public again– 40% of all IPOs in 2003 and 2004
• IPOs returning 18% in 2005, 10% so far in 2006
• Profitless IPOs are 40% vs. 80% during tech bubble
• Avg. age of IPOs up to 15 in 2002, vs. 4 in 1999
MONEY AND FREEDOMThe benefits of private equity
MONEY“It’s like Moses brought down a third tablet from the Mount –
and it said ‘2 and 20’”
Money
• Partners typically receive…– 2% of assets as management fee– 20% of returns– Tax benefit: 15% capital gains vs. 35%
• Executive compensation– Allowed to purchase stake in company,
sometime as much as 20%– Tied to turnaround success
• Long term success, not quarterly results
FREEDOM“It’s the difference between driving a speedboat and driving an ocean liner. When you want to turn a speedboat, you turn the wheel. For an ocean liner, you have to plan two days ahead.”
Freedom
• Less annoyance from SOX– Public CEOs may have to reveal compensation– Less costs
• Fundamental nature of PE is different– CEOs have a freer hand
• Don’t have to answer to shareholders• Can make tough but necessary decisions
– Focus on long-term success, not quarterly
• No activist hedge funds
Lou Gerstner, former IBM CEO and chairman of the Carlyle Group, on:
Why Private Equity• Restructuring
– Impact if information and networking– Excess Capacity
• Eliminate dysfunctional short-term focus
• Longer time frame - build value over time
• Direct alignment of shareholders and management
Careers
• PE firms don’t recruit on campus
• PE seen as the new fast track to owning your own shop
• Private Equity is hot for B-schoolers– In the 1980’s it was I-Banking– In the 1990’s it was tech-related venture
capital
“Managers now understand that involvement in the private-equity world is potentially more interesting, more lucrative, and less of a hassle,”